Chapter 2

Making Decisions

In this chapter, students will explore the importance of decision-making to managers and learn how to make effective decisions.

LEARNING OBJECTIVES
  1. Describe the eight steps in the decision-making process.
  2. Explain the four ways managers make change.
  3. Classify decisions and decision-making conditions.
  4. Describe different decision-making styles and discuss how biases affect decision making.
  5. Identify effective decision-making techniques.

It’s Your Career

Be a Better Decision Maker

Decisions are an essential part of your life, personally and professionally. Each and every day is a series of decisions, from minor to significant, and everything in between. Good decision-making is a skill, and like any skill, it can be learned and improved. So, how can you improve your decision-making skills? The chapter outlines four things students need to know; each numbered item will be described further in the chapter:

1. Know, understand, and use the decision-making process. Yes, there is a “method” to making decisions that takes you from identifying problems to evaluating the effectiveness of your decision. It works. Know it. Understand it. Use it.

2. Know when and how to use rational or intuitive decision-making or both. Different types of problems and different types of conditions will influence how you approach making a decision.

3. Know your decision-making style. Not everyone approaches decision making the same way. But you do need to recognize how you’re most comfortable when making a decision—and how others around you make decisions.

4. Know, recognize, and understand the biases and errors that may influence your decision-making. Biases and errors can creep into your decision making. You may think you’re making good decisions and may not even recognize you’re doing these things. Yet, these errors and biases are likely undermining your ability to make good judgments and good choices. Beware! Be aware!

CHAPTER OUTLINE

2.1THE DECISION-MAKING PROCESS

A decision is a choice made from two or more alternatives. The decision-making process is a set of eight steps that include identifying a problem, selecting an alternative, and evaluating the decision’s effectiveness. (See Exhibit2-1 for an illustration of the decision-making process.)

A.Step 1: Identify a problem. A problem is a discrepancy between an existing and a desired condition. In order to identify a problem, you, as a manager, should recognize and understand the three characteristics of problems:

1.You must be aware of the problem. Be sure to identify the actual problem rather than a symptom of the problem.

2.You must be under pressure to act. A true problem puts pressure on the manager to take action; a problem without pressure to act is a problem that can be postponed.

3.You must have the authority or resources to act. When managers recognize a problem and are under pressure to take action but do not have the necessary resources, they usually feel that unrealistic demands are being put upon them.

B.Step 2:Identify decision criteria. Decision criteria are criteria that define what is relevant in a decision.

  1. Step 3:Allocate weights to the criteria. The criteria identified in Step 2 of the decision-making process do not have equal importance, so the decision-maker must assign a weight to each of the items in order to give each item accurate priority in the decision. Exhibit2-2 lists the criteria and weights for Amanda’s purchase decision for new computers.

D.Step 4:Developing alternatives. The decision-maker must now identify viable alternatives that could resolve the problem.

E.Step 5: Analyze alternatives. Each of the alternatives must now be critically analyzed by evaluating it against the criteria established in Steps 2 and 3. Exhibit2-3 shows the values that Amanda assigned to each of her alternatives for a new computer. Exhibit2-4 reflects the weighting for each alternative, as illustrated in Exhibits 2-2 and 2-3.

F.Step 6: Select an alternative. This step to select the best alternative from among those identified and assessed is critical. If criteria weights have been used, the decision-maker simply selects the alternative that received the highest score in Step 5.

G.Step 7: Implement the alternative. The selected alternative must be implemented by effectively communicating the decision to the individuals who will be affected by it and winning their commitment to the decision.

H.Step 8: Evaluate decision effectiveness. This last step in the decision-making process assesses the result of the decision to determine whether or not the problem has been resolved.

2.2MANAGERS MAKING DECISIONS

At this point in the study of Chapter 2, students will learn about the manager as a decision-maker and how decisions are actually made in organizations. Exhibit 2-5 shows how decision-making fits into the four functions of management.

In this section, students examine how decisions are made, the types of problems and decisions faced by real-life managers, the conditions under which managers make decisions, and decision-making styles.

A.Making Decisions: Rationality. Managerial decision-making is assumed to be rational—that is, making choices that are consistent and value-maximizing within specified constraints. If a manager could be perfectly rational, he or she would be completely logical and objective.

1.Rational decision-making assumes that the manager is making decisions in the best interests of the organization, not in his or her own interests.

2.The assumptions of rationality can be met if the manager is faced with a simple problem in which (1) goals are clear and alternatives limited, (2) time pressures are minimal and the cost of finding and evaluating alternatives is low, (3) the organizational culture supports innovation and risk taking, and (4) outcomes are concrete and measurable.

B.Making Decisions: Bounded Rationality. In spite of these limits to perfect rationality, managers are expected to be rational as they make decisions. Because the perfectly rational model of decision-making isn’t realistic, managers tend to operate under assumptions of bounded rationality, which is decision-making behavior that is rational, but limited (bounded) by an individual’s ability to process information.

1.Under bounded rationality, managers make satisficing decisions, in which they accept solutions that are “good enough.”

2.Managers’ decision-making may be strongly influenced by the organization’s culture, internal politics, power considerations, and by a phenomenon called escalation of commitment—an increased commitment to a previous decision despite evidence that it may have been wrong.

C.Making Decisions: The Role of Intuition. Managers also regularly use their intuition. Intuitive decision-making is a subconscious process of making decisions on the basis of experience and accumulated judgment. Exhibit2-6 describes the five different aspects of intuition.

1.Making decisions on the basis of gut feeling doesn’t necessarily happen independently of rational analysis; the two complement each other.

2.Although intuitive decision-making will not replace the rational decision-making process, it does play an important role in managerial decision-making.

D.Making Decisions: The Role of Evidence-Based Management. The premise behind evidence-based management (EBMgt) is that any decision-making process is likely to be enhanced through the use of relevant and reliable evidence. EBMgt promotes the use of the best available evidence to improve management practice.

  1. The four essential elements of EBMgt are the decision-maker’s expertise and judgment; external evidence that’s been evaluated by the decision-maker; opinions, preferences, and values of those who have a stake in the decision; and relevant organizational (internal) factors such as context, circumstances, and organizational members.
  2. The strength or influence of each of these elements on a decision will vary with each decision.
  3. The key for managers is to recognize and understand the mindful, conscious choice as to which element(s) are most important and should be emphasized in making a decision.

2.3TYPES OF DECISIONS AND DECISION-MAKING CONDITIONS

A.Types of Decisions. Managers encounter different types of problems and use different types of decisions to resolve them.

1.Structured problems are straightforward, familiar, and easily defined. In dealing with structured problems, a manager may use a programmed decision, which is a repetitive decision that can be handled by a routine approach. Managers rely on three types of programmed decisions:

a.A procedure is a series of interrelated sequential steps that can be used to respond to a structured problem.

b.A rule is an explicit statement that tells managers what they can or cannot do.

c.A policy is a guideline for making decisions.

2.Unstructured problems are problems that are new or unusual and for which information is ambiguous or incomplete. These problems are best handled by a nonprogrammed decision that is a unique decision that requires a custom-made solution.

3.Exhibit2-7describes differences between programmed versus nonprogrammed decisions.

a.At higher levels in the organizational hierarchy, managers deal more often with difficult, unstructured problems and make nonprogrammed decisions in attempting to resolve these problems and challenges.

b.Lower-level managers handle routine decisions themselves, using programmed decisions. They let upper-level managers handle unusual or difficult decisions.

B.Decision-Making Conditions.

1.Certainty is a situation in which a manager can make accurate decisions because all outcomes are known. Few managerial decisions are made under the condition of certainty.

2.More common is the situation of risk, in which the decision-maker is able to estimate the likelihood of certain outcomes. Exhibit2-8 shows an example of how a manager might make decisions using “expected value,” considering the conditions of risk.

FUTURE VISION: Who Makes the Decisions, Person or Machine?

Consumers with E-book readers may be surprised that the information they download may be monitored by publishers and retailers. Such information can be a treasure for managers who need up to date information in order to make decisions. The latest decision software will go beyond simple tracking and storing of data to learn and pick out patterns of behavior. This intelligent software will have many managerial applications for decision-making including health care and human resources.

The following discussion questions are posed:

Talk About It 1: What steps of the decision-makingprocess will technology be most useful for?Explain.

Talk About It 2: How can technology be a “tool”for managerial decision-making?

Student answers to these questions will vary.

3.Uncertainty is a situation in which the decision-maker is not certain and cannot even make reasonable probability estimates concerning outcomes of alternatives.

a.The choice of alternative is influenced by the limited amount of information available to the decision-maker.

b.It’s also influenced by the psychological orientation of the decision-maker.

1)An optimistic manager will follow a maximax choice, maximizing the maximum possible payoff.

2)A pessimistic manager will pursue a maximin choice, maximizing the minimum possible payoff. (see Exhibit2-9)

3)The manager who desires to minimize the maximum “regret” will opt for a minimax choice. (see Exhibit 2-10)

LEADER MAKING A DIFFERENCE

Elon Musk is not your typical CEO. In 2002, he sold his second Internet startup, PayPal, to eBay for $1.5 billion.Currently, Musk is CEO of Space Exploration Technologies (SpaceX) and Tesla Motors, and chairman and largest shareholder of SolarCity, an energy technology company. Each of these ventures has transformed (or is transforming) an industry: PayPal—Internet payments;Tesla—automobiles; SpaceX—aeronautics; and SolarCity—energy. As a decision-maker, Musk deals mostly with unstructured problems in risky conditions. However, like other business innovators, Musk is comfortable with that and in pursuing what many might consider “crazy” idea territory. His genius has been compared to that of the late Steve Jobs and Fortune magazine named him the 2013 Businessperson of the Year.

What can you learn from this leader making a difference?

2.4DECISION-MAKING STYLES

Managers have different styles in making decisions and solving problems. One perspective proposes that people differ along two dimensions in the way they approach decision-making.

A. Linear-Nonlinear Thinking Profile

1.Research shows that an individual’s thinking style reflects two dimensions: (1) the source of information you tend to use, and (2) how you process that information (linear—rational, logical, analytical; or nonlinear—intuitive, creative, insightful).

2.These four dimensions are collapsed into two styles. The linear thinking style is characterized by a person’s preference for using external data and facts and processing this information through rational, logical thinking to guide decisions and actions. The nonlinear thinking style is characterized by a preference for internal sources of information and processing this information with internal insights, feelings, and hunches to guide decisions and actions.

B.Decision-Making Biases and Errors

Managers use different styles and “rules of thumb” (heuristics) to simplify their decision-making. See Exhibit 2-11 for the common decision-making biases.

1.Overconfidence bias occurs when decision-makers tend to think that they know more than they do or hold unrealistically positive views of themselves and their performance.

2.Immediate gratification bias describes decision-makers who tend to want immediate rewards and avoid immediate costs.

3.The anchoring effect describes when decision-makers fixate on initial information as a starting point and then, once set, fail to adequately adjust for subsequent information.

4.Selective perception bias occurs when decision-makers selectively organize and interpret events based on their biased perceptions.

5.Confirmation bias occurs when decision-makers seek out information that reaffirms their past choices and discount information that contradicts their past judgments.

6.Framing bias occurs when decision-makers select and highlight certain aspects of a situation while excluding others.

7.Availability bias is seen when decision-makers tend to remember events that are the most recent and vivid in their memory.

8.Decision-makers who show representation bias assess the likelihood of an event based on how closely it resembles other events or sets of events.

9.Randomness bias describes the effect when decision-makers try to create meaning out of random events.

10.The sunk costs error is when a decision-maker forgets that current choices cannot correct the past. Instead of ignoring sunk costs, the decision-maker cannot forget them. In assessing choices, the individual fixates on past expenditures rather than on future consequences.

11.Self-serving bias is exhibited by decision-makers who are quick to take credit for their successes and blame failure on outside factors.

12.Hindsight bias is the tendency for decision-makers to falsely believe, once the outcome is known, that they would have accurately predicted the outcome.

C.Overview Managerial Decision-Making

1.Exhibit2-12 provides an overview of managerial decision-making. Managers want to make good decisions because doing so is in their best interests.

2.Regardless of the decision, it has been shaped by a number of factors, which are discussed in Chapter 7.

2.5EFFECTIVE DECISION-MAKING FOR TODAY’S WORLD

Today’s business world revolves around making decisions, which are often risky ones made with incomplete or inadequate information and under intense time pressure. How can managers make effective decisions under these conditions?

A.Guidelines for Effective Decision-Making

  1. Understand cultural differences.
  2. Create standards for good decision-making.
  3. Know when it is time to call it quits.
  4. Use an effective decision-making process.
  5. Build highly reliable organizations (HROs) that practice five habits:
  1. Do not be tricked by your own success.
  2. Defer to the experts on the front lines.
  3. Let unexpected circumstances provide the solution.
  4. Embrace complexity.
  5. Anticipate, but also recognize the limits to your ability to anticipate.

B.Design Thinking and Decision-Making

Design thinking has been described as “approaching management problems as designers approach design problems.” It can be useful when identifying problems and when identifyingand evaluating alternatives.

  1. Big Data and Decision-Making
    Big data is the vast amount of quantifiable information that can be analyzed by highly sophisticated data processing. One IT expert described big data with “3V’s: high volume, high velocity, and/or high variety information assets. With this type of data at hand, decision-makers have very powerful tools to help them make decisions. However, experts caution that collecting and analyzing data for data’s sake is wasted effort. Goals are needed when collecting and using this type ofinformation.

ANSWERS TO REVIEW AND DISCUSSION QUESTIONS

Student answers to these questions will vary.

2-1.Why is decision-making often described as the essence of the manager’s job?

Decisions are made throughout the performance of all four functions of management. Almost anything a manager does in terms of planning, organizing, leading, and controlling involves decision-making. The pervasiveness of decision-making in management explains why managers are often called decision-makers. (LO: 1, Describe the eight steps in the decision-making process, AACSB: Analytical thinking)

2-2. Describe the eight steps in the decision-making process.

The decision-making process consists of eight steps: (1) identify problem; (2) identify decision criteria; (3) weight the criteria; (4) develop alternatives; (5) analyze alternatives; (6) select alternative; (7) implement alternative; and (8) evaluate decision effectiveness. (LO: 1, Describe the eight steps in the decision-making process, AACSB: Analyticalthinking)

2-3. Compare and contrast the four ways managers make decisions.

The assumptions of rationality are as follows: the problem is clear and unambiguous; a single, well-defined goal is to be achieved; all alternatives and consequences are known; and the final choice will maximize the payoff. Bounded rationality says that managers make rational decisions but are bounded (limited) by their ability to process information. Satisficing happens when decision-makers accept solutions that are good enough. With escalation of commitment, managers increase commitment to a decision even when they have evidence it may have been a wrong decision. Intuitive decision-making means making decisions on the basis of experience, feelings, and accumulated judgment. Using evidence-based management, a manager makes decisions based on the best available evidence. (LO: 2, Explain the four ways managers make change, AACSB: Analyticalthinking)